14 November 2013

You Think You Have Legal Bills?

Starbucks Corp. (SBUX) said it would pay Mondelez International Inc. (MDLZ) $2.79 billion to settle a dispute over distribution in the coffee-shop chain’s bagged-coffee unit, as grocery-store sales become a growing part of the business. The payment, ordered by an arbitrator [in Chicago, Illinois on November 12, 2013], consists of $2.23 billion in damages and $557 million in interest and attorneys’ fees, Seattle-based Starbucks said today in a filing. The company said it has adequate cash and borrowing capacity to fund the payment and will book it as a charge to its fiscal 2013 operating expenses. The ruling settles a dispute that began in 2010, when Starbucks offered $750 million to end an agreement through which Mondelez, then known as Kraft Foods Inc., distributed its coffee to food retailers. Kraft rejected the offer. Starbucks sought to wrest control of its packaged coffee business as revenue grew[.]

. . .Kraft sought compensation for the “fair market value” of the business plus possibly a premium of as much as 35 percent of that value. Since they started working together, Starbucks’s retail-grocery coffee business grew to $500 million in annual revenue from $50 million, Kraft said in November 2010.

If you had any illusions that the cost of litigating an arbitration was cheaper or faster than litigating an ordinary court case, allow this lawsuit to disabuse you of the belief. The matter took three years to resolve from initial filing of the arbitration proceeding to final ruling (even without the possibility of an appeal), and there is every reason to believe that the legal fees in the case will be immense.

One hopes that most of the $557 million is interest rather than attorneys fees (8% for three years is about 25% which is pretty close to the total), because honestly, for a lawsuit that hinges on a breach of a single two party contract by one of the parties, where it is largely acknowledged that some compensation is must be paid by the breaching party to the non-breaching party and the main issue is how much is owed, I have an incredibly hard time fathoming how you could run up hundreds of millions of dollars in attorneys' fees.

This case is also a striking illustration of the fact that while some personal injury cases produce big dollar awards, that the really huge dollar lawsuits are mostly commercial cases involving medium and large sized businesses.

UPDATE: It turns out, according to the press release from Kraft's lawyer, that all of the $557 million is interest and that attorneys' fees will be determined at a later date. The press release also adds this detail:

Starbucks unilaterally terminated its agreement in November 2010 before its 2014 expiration, cutting off Kraft’s exclusive rights to sell, market and distribute Starbucks roast and ground coffee in grocery and other retail outlets. Kraft immediately initiated arbitration proceedings to challenge the contract’s improper termination.

It is very hard to understand how three and a half-years of lost profits on a business that was grossing $500 million at the time of termination, could have been worth $2.23 billion, even with a 35% premium. Wholesale grocery markups just aren't that big. Another report from March of 2013 notes that:

The two sides are rather far apart, with Kraft calculating the debt at $2.9 billion, plus attorney fees. (Why do we think the attorney fees will trump that debt figure?) Starbucks said the amount is actually $62.9 million.

Thus, the ruling was a near total victory for Kraft, with the arbitrator adopting their damages theory lock, stock and barrel. Starbucks would almost certainly have appealed this ruling had it been in a state court and would have very likely secured a major reduction in the award in the process, either via a settlement or a court ruling.